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Financial RoadBlocks to Retirement


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Retirement gives you freedom. Being able to fund the kind of retirement you desire gives you even more freedom. And freedom is what we all want.  As pensions have disappeared, boomers have had to assume much of the responsibility for their own retirement planning.  .  Longevity risk––that is, the risk of outliving your retirement savings––is among retirees’ biggest worries these days.

Life expectancy, risk tolerance, the availability of other sources of income, and the amount of retirement income your portfolio needs to provide are all factors in determining which assets, and in what proportions, should be part of your retirement portfolio. The appropriate time horizon for retirement assets is life expectancy, and so that could be 15 to 30 years.  Be aware that retirees already have an inflation-indexed annuity designed to last a lifetime, with benefits paid to a surviving spouse — their Social Security benefits.

The only way to address both market risk and longevity risk is to hold a well-diversified portfolio matched to your investment time horizon and risk tolerance.  However, the split between real risk tolerance and peoples’ risk appetites also seems to be a challenge.

Today many people are less risk averse (foolishly) as markets rise.  Yet for some, sensitivity to fluctuations in the stock market has increased since the 2008/2009 downturn. This generation – on the cusp of retirement – received quite a shock when stock and bond markets plunged in 2007 and 2008. – it was a scary and stressful time that none of us wants to repeat.  After a market sell-off like we had in 2008, where the S&P 500 on a total return basis fell by 37%, investors look for a way to be involved in the market but not be subject to the downside risk.

Of real concern to retirees and soon to be retirees is the “Blind-Side” costs that can easily derail what you thought had been a well-planned retirement. For example, Ten trillion dollars in Americans’ retirement savings are invested in large and small accounts managed by banks, brokerages, mutual funds and insurance companies.

Although rising equities have boosted planners’ own businesses by increasing asset fees, the booming market is starting to look like a cause for concern. This year, they are more worried about a correction.  Whether your IRA or 401K will assure a safe retirement is largely a gamble.  Fees, self-dealing and kickbacks bring great profits to Wall Street while imperiling the prospects of a secure future for individuals.

Now throw in the very real possibility that as one ages their health costs become overwhelming.  Some people are really underestimating the growing cost of aged care and the toll it may take on an unexpected financial roadblock to a secure retirement.

Traditional Medicare does not cover dental, vision or long-term care.  The median cost of assisted living facilities is $3,500 a month, or $42,000 a year, and for a private room in a nursing homes, the figure is around $7,300, according to the 2014 Genworth Cost of Care Survey.

But you can head off financial setbacks if you “expect the unexpected.  Planning for the “bump in the road” helps you figure out how to be prepared to handle the setback.  It is suggested a “replacement reserve” for capital expenses, such as house painting and a new car, replacing a furnace or refrigerator along with a source of “guaranteed gap income” to supplement Social Security.

Folks planning for retirement want simple investments with steady income and low fees.  Deferred income annuities are also known as Personal Pension and Longevity Insurance contracts.  With pensions disappearing, there are really no other sources of guaranteed lifetime income. This is a critical component in a comprehensive lifetime income plan.

In these days of low bond yields and low interest rates, many people are looking for easy, set-it-and-forget-it investments to generate income.  The big difference is the guarantee. “With the annuity, you know for sure what you are going to get paid. With any other managed account, the idea is: ‘Let’s plan for you to live to the 80th percentile of mortality, but there’s no guarantee you’ll get there.”

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Sunday, July 27th, 2014 Wealth Management Comments Off

Safety Net Investing By Retirees

Main Street and Wall Street are moving in opposite directions.  Individual investors are plowing money back into the U.S. stock market just as professional strategists say gains for this year are over.  Today’s question for retirees is the classic, “How much of my retirement account should I leave in cash so I won’t have to sell income-producing assets in a down market?  The most essential step for boosting your retirement income is making sure you’ve got the money available in the first place!

If you are interested in managing your finances, you should know how your financial decisions change during your lifetime — from the start of your career till the end of your life.  Retirees and pre-retirees are interested in maximizing any income streams that will last throughout their lifetimes–even if they end up living to be 100.  For those concerned about outliving their assets because they could live a very long time–well into their 90s, for example–longevity annuities can help provide peace of mind.

Lifetime income sources like Social Security, pensions, and income annuities provide a hedge against outliving one’s assets, guaranteeing that there’s at least some money coming in the door even when investors’ portfolios begin to run low.

The key issue during your retired years is managing your investment risk. You would depend primarily on passive income to sustain your lifestyle. A significant loss in portfolio value early in retirement will expose you to longevity risk — the risk that you will outlive your investments.

We do believe that building a safety margin into your retirement plan reduces the probability of not meeting the retirement income objectives.  When a person retires, they should look again at their overall portfolio and decide if they should roll the 401(k)s into IRAs. “The benefits of rolling over to a self-directed IRA include the investment options are broader and possibly create guaranteed income through the use of an annuity.

Annuities help Americans reduce volatility risk, add stability to their investment portfolio, and prepare for a financially secure retirement. With so much volatility in the investment world, many retirees like the idea of a straightforward annuity option. The annuity option offers guaranteed income for life and the elimination of investment pressures.  An annuity provides a guaranteed income for life in exchange for a lump-sum payment — kind of like buying a defined benefit pension plan.

Nobody needs to be reminded that stocks and bonds can both drop in capital value as a consequence of market forces.  However, individual investors are now attracted to stocks after seeing others getting rich from a big rally, a time when equities are usually overpriced.  The retail investor arrives when they can only see blue skies.  Everything is rosy, the stock market has hit new highs, unemployment is heading down to multi-year lows, housing sales are bouncing back, all is calm.

Although the US stock market is up more than 200 percent from the lows of 2009, prosperity has been elusive.  This means that there probably will not be a market meltdown, but there is a likelihood that we are going to experience far more ups and downs with stock prices than we have over the past couple of years. Virtually all asset classes have become more expensive yet investors are willing to accept more risk for lower returns.

The U.S. stock market has boomed in the past few years, in large part because the aggressive actions of the Federal Reserve have driven down the short-term costs of borrowing. If the economy picks up the cost of borrowing will rise. Do the math. The end of economic stimulus from the Federal Reserve will lead to more stock-market volatility and lower returns.  When you’re making a transition away from the Fed being the primary driver to corporate profits and a growing economy, it’s more muted returns.

The bull market, which has almost tripled the S&P 500’s value since 2009, is closer to the end than the beginning.  To the extent that investors start to put a lot of money into the market, it would certainly be late. The primary source of instability is the irresponsible actions of bankers, traders, and other financial entities as prolonged periods of prosperity when people an entities ratchet up their risks.

Investors continue to look for the holy grail of money managers who can beat the market. Retirement planning wisdom that financial planners give their clients often falls short of rocket science:  The experts, portfolio managers whose job it is to pick stocks they think will outperform, produced a return that was approximately 3.9 percentage points lower than the S&P 500.  There is no significant evidence of superior stock-picking ability for the market experts.

They say that on average stocks earn 10% a year. Actually, depending on the Wall Street marketing department you’re listening to, this may be downgraded to 9% or upgraded to 12%. Regardless, it’s total balderdash.  The 12% figure is derived from a meaningless piece of statistical chicanery called the “arithmetic mean.” It can be dismissed.

Since the 1920s the compound return has been around 9%, but this, too, is grossly dishonest. These numbers include phony profits caused by inflation, and one-off gains from an upward revaluation of stocks which, by definition, cannot be repeated.

Bottom line? The best, most honest guess is that stocks are likely to earn you, after inflation, the net dividend yield plus roughly 1% to 2%. There’s some dispute about the net dividend yield because of the question of stock buybacks, but overall we’re looking at real returns of maybe 4% a year, if we are lucky.

There’s a lot of money on the sidelines waiting to come in to stocks. You’ll hear this repeated over and over and over again by stock market scalpers.  But there is absolutely no money on the sidelines waiting to come in to stocks. None. Zip. Nada. How do we know? Easy. Every time somebody buys a stock, somebody else has to sell it.

Think about it. You’ve got $100 “on the sidelines” and you want to “put it to work” (yeah) in stocks. So you use it to buy $100 worth of stocks from, say, me. What happens? Before the deal you’ve got $100 “on the sidelines” and I’ve got $100 worth of stocks. Afterward you’ve got my stocks, and I’ve got your $100 in cash. Back on the sidelines.

Have you heard that economic growth will be good for stocks. Maybe not!  While the economy was flat on its back, the hucksters told you that this would keep interest rates low, and that was good for stocks.  Now that the economy seems to be recovering they’ll tell you this is great for stocks, too. The real problem? There is no link between economic growth and the returns from the stock market.

From 1968 to 1982 the U.S. economy grew by 50% even after adjusting for inflation. Yet over that period investors actually lost money in real terms (even before you count taxes and fees). Economic research has shown that, if anything, the fastest-growing economies have tended to produce lower, not higher, stock market returns.

Putting a safety net in place is just plain good sense. In the past, many chose to build up their retirement portfolio over the course of their working life and then purchase an annuity with the full amount on the day they retire. They would then have a fixed (and guaranteed) monthly or annual income amount that would last as long as they live and there was no risk of running out of money.

Today, we feel that covering your basic expenses should be funded for life from the annuity/government benefits and the rest of your portfolio would then be available to withdraw from as needed for a big purchase, travel plans or other lump-sum withdrawals. An annuity can take much of the stress of retirement planning out of the picture and provide you with worry-free retirement income for as long as you live.

The amount you will receive from an annuity is based on your age, sex and interest rates. Calculate your basic living expenses per year and you receive per year from government benefits (Social Security), you could use a portion of your retirement nest egg to purchase an annuity that provides the difference per year of annuity payments and then keep the remainder in a diversified investment portfolio.

 

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Sunday, July 20th, 2014 Wealth Management Comments Off

Solving Decumulation Mystery

A lot of retirement products accordingly invest in riskier assets, so as to offer a higher return. But that can be dangerous when stockmarkets tank.  Living for 25 years with only your outside income being a small stipend from Social Security requires a huge chunk of savings.

Planning your retirement income means making some tough decisions. So it’s like going to the dentist; they put it off until they have to. Why people nearing retirement don’t focus on what is called the “decumulation” phase is a mystery.  Drawing down your assets in an appropriate way can be just as crucial to your retirement security as saving and investing.

Returns make a much bigger difference once you start taking withdrawals from your investments, especially if you experience a decline in the early part of your retirement. A few big declines in the first few years of retirement on top of yearly withdrawals can deplete your nest egg so much that the remaining portfolio can never recover.

For example, the market moves this past week provided an unwelcome reminder to investors of the past tensions that gripped investors at the start of the great recession.  It’s a classic flight to safety across the equity, commodities and bond markets.  Everyone’s going to be in a de-risking mentality today, which is certainly not good. It’s sell first and ask questions later, which is what you see going on.

U.S. benchmark indexes ended last week at all-time highs, with the Dow (INDU) topping 17,000 for the first time. With all the hoopla over the Dow topping 17,000, many stocks declined from records amid rate speculation.  The stock market’s push to another round of record highs has hidden a “rotten rotation” that belies investor fears that the economic-growth story isn’t all it’s cracked up to be.

U.S. stocks fell, after a weekly rally pushed benchmark gauges to record levels. As stock indexes hit record highs, nervous investors increasingly face a difficult choice: Stocks slid as speculation that U.S. stocks have risen too far, too fast, fueled losses earlier in the week.

Stocks fell, with the Standard & Poor’s 500 Index resuming a selloff that began earlier this week, as signs of financial stress fueled demand for safe haven assets. The S&P 500 lost 1 percent to 1,954.04. Markets have yet to reflect the recovery that economists have been forecasting.  You cannot help but feel that this market is living on borrowed time.

Companies world-wide are selling stocks at a record pace, capitalizing on investors’ appetite for riskier assets at a time of low returns on safer bets.  You’ve undoubtedly heard the saying, “If it sounds too good to be true, it probably is. Do they keep betting as heavily on the markets, or do they move more money into cash?  We’ve had such a big move to this point that good data just isn’t enough to drive this market much further. It’s really coming down to company earnings.

The danger of flying blind for retirement – Problem is if you don’t know what your investments are, you don’t know your exposure to the stock market or interest rates.” Then, if you’ve unwittingly put all your chips on stocks and retire as the market collapses, you could be in serious financial trouble.

To avoid significant losses in retirement, many retirees shift their retirement money to more conservative investments that are less likely to lose value. While the growth might be slower, conservative investors are also less likely to suffer a financial setback they don’t have time to recover from.

The first years of retirement income are tucked away in guaranteed or relatively stable assets that aren’t subject to stock market volatility. They also take comfort knowing that poor equity returns in their early years of retirement won’t affect their future income, since they have transferred that risk to an insurance company.

The Do-It-Yourself Pension – The idea of the deferred-income annuity is simple. In exchange for an upfront premium payment, the insurance company agrees to pay you monthly income.

It’s worth considering when you do your retirement-income planning. Deferred income annuities (also known as longevity annuities) have become an increasingly popular way to protect against the risk of outliving your money in retirement, and not having to worry about required minimum distributions will make them even more attractive.

Nobody knows how long he or she will live, but having a guaranteed income stream that kicks in after a certain age can help you plan withdrawals from the rest of your savings. If you do turn out to be one of those people who lives to 90 or even longer, putting safeguards in place in their plans by adding longevity protection into their retirement plans makes sense.

There are a lot of reasons for paying money for different types of insurance, and the biggest one is peace of mind.  If you’re one of those people who is at risk of living too long and outliving your money, then a longevity insurance policy could be just the answer. Longevity annuities are a valuable new opportunity for retirees to insure themselves against outliving their money.

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Friday, July 11th, 2014 Wealth Management Comments Off

The Bedrock Retirement Auto-Pilot

People retiring this year can expect to live another 20 years, according to estimates from Social Security. But in making our financial plans, it’s a good idea to account for 30 years or even more, since roughly one in five of us will live past age 90. Who wants a diminishing lifestyle for their entire retirement?

There is scary research about living into your 90s. You see the statistics, the millions of people living into very old age. By the time they reach 95, most people will have some form of dementia.  What that means is that when I’m 90 I will be a very different investor than I am at 47. What is needed is a check coming each and every month that’s on auto-pilot. 

As boomers approach retirement and life expectancies increase, longevity income annuities can be an important option to help Americans plan for retirement and ensure they have a regular stream of income for as long as they can live.  Annuities can be the bedrock of your retirement income plans, as they take the worry of outliving your money off the table.

If I am going to put my retirement on auto-pilot I’d like an auto-pilot that recognizes that we need to gain altitude to climb the mountain of inflation ahead of us. Many people are starting to realize there are some of the non-financial benefits of annuities that do not get enough play.

The U.S. Treasury Department has just given a tax break and its blessings to retirement savers who want to buy long-term deferred annuities in their 401(k) and individual retirement accounts. The Treasury Department announced that workers can now satisfy the 401(k) distribution rules if they use a portion of their retirement money to buy longevity annuities and begin collecting the income by age 85.

The move is part of the Obama administration’s broader effort to develop ways to provide Americans with more security in retirement. New tax rules will make it possible for workers to buy a type of annuity often called longevity insurance inside their retirement plans. The annuity aims to protect people from exhausting their savings in their later years.

Until now, these annuities could not be widely used in 401(k) retirement plans and individual retirement accounts because those plans require account holders to begin withdrawals — known as required minimum distributions — at age 70 ½.

To avoid the distribution rules, however, retirement plan participants can use no more than 25 percent of their total account balances, or $125,000, to buy the annuity, whichever is less.  The annuities must also be relatively basic and cannot be layered with many of the special features — like cash-surrender options — that insurers sell in the commercial market.

But annuity providers will be permitted to sell a feature that guarantees that the annuity owner’s beneficiaries will receive the premium amount originally paid, minus any payments already made. They can also provide an option that would continue paying the income to a beneficiary after the annuity owner’s death.

Longevity insurance is actually a deferred-income annuity, in which a person pays a lump sum premium to an insurer in exchange for a guaranteed lifetime income stream that begins several years later — perhaps well into the person’s 70s or 80s.

Buying an annuity that doesn’t begin making payments until much later — perhaps more than a decade — is more cost-effective than buying an annuity at retirement and collecting the income immediately. The reason is straightforward: There is a higher chance the individual will not live long enough to begin collecting payments.  The benefit is you’re buying protection against risk — in this case, the risk of outliving your savings.

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Wednesday, July 2nd, 2014 Wealth Management, Wealth Preservation Comments Off

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